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Perspectives on the Development of LNG Market Hubs in the Asia Pacific Region

Release date: March 2, 2017

Introduction

This report was prepared by ICF International, Inc. under contract to the U.S. Energy Information Administration (EIA). The report discusses current initiatives to establish regional liquefied natural gas (LNG) trading hubs and pricing benchmarks in Asia and assesses the prospects for the Asian gas hubs in the near future. The report examines the characteristics of successful natural gas trading hubs and develops qualitative and quantitative indicators of the components of effective hubs, with emphasis on applying these indicators to Asian markets.

As the global LNG market continues to grow and as liquidity increases in part as a result of U.S. participation, EIA's aim is to better understand the interplay between U.S. LNG exports and international natural gas prices. This understanding will inform EIA's international energy models and its outlook for the development of world natural gas markets.

Historically, effective market pricing points (referred to as market hubs) emerged in North America following the deregulation of natural gas commodity markets and the development of an extensive natural gas pipeline network. As natural gas markets have become less regulated in other parts of the world, notably Europe and the United Kingdom, market pricing hubs have emerged in those areas.

The large Asian markets (Japan, South Korea, Taiwan, and to a lesser degree China and India) have traditionally relied on LNG, which has been priced under long-term contracts tied to crude oil prices. With significant expansion of the global liquefaction capacity (primarily from new projects in Australia and the United States) and changes to LNG contracting, a more market-sensitive trade in LNG is emerging. However, Asia does not have a fully functioning pricing point that can reliably transmit price signals to the market. Development of reliable pricing indexes and market hubs in Asian countries that reflect the underlying demand-supply fundamentals becomes increasingly important as global natural gas markets evolve and mature.

Global liquefaction capacity is projected to increase by one-third by 2020. In recent years, high oil prices and rapid growth in natural gas demand (primarily in Asia) spurred major investments in the global export capacity of LNG. As a result, global LNG export capacity is projected to increase by one-third by 2020, with most of the new capacity located in Australia and the United States. Once all liquefaction projects currently under construction come online, the United States is projected to have the world's third-largest LNG export capacity.

U.S. LNG exports will increase liquidity in global LNG trade and enhance supply security. The large U.S. LNG export capacity, combined with destination flexibility in the off-take contracts, will result in a greater liquidity in global LNG trade. The growth in liquidity will lead to a gradual shift away from long-term, oil-linked contract pricing toward more short-term, spot-based transactions. These changes will underscore the need for transparent and reliable regional LNG pricing indexes and trading hubs, particularly in Asia.

Asian markets lack a transparent pricing benchmark. Although Asia is the major natural gas-consuming region (accounting for one-third of the global natural gas trade and three-quarters of the global LNG trade), the region lacks a liquid and transparent LNG pricing benchmark similar to the Henry Hub in the United States or the National Balancing Point in the United Kingdom. Asian LNG consumers have historically relied on long-term contracts to guarantee the security of supply because they lack indigenous natural gas resources and have limited access to pipeline trade. Increasing volumes of flexible LNG supply in the region will lead to more liquid LNG trading in Asia.

Multiple initiatives are underway to facilitate price discovery in Asian LNG markets. Japan, China, and Singapore are now developing regional trading hubs in Asia Pacific markets and have launched LNG pricing indexes to increase the transparency in price formation. For example, the Japanese government developed a comprehensive strategy to liberalize its domestic natural gas market and launched major initiatives to encourage private-sector participation in the development of an LNG trading hub and a pricing index. Japan's Fair Trade Commission is now probing resale restrictions in long-term LNG contracts that could fundamentally shift how LNG is contracted and traded. All three countries have established benchmark LNG pricing indexes and announced various financial instruments to be traded on domestic exchanges to encourage LNG price discovery and transparency.

The formation of functional natural gas market hubs in Asia Pacific will take time. In the United States and Europe, the development of natural gas hubs and pricing indexes took 15 years and 10 years, respectively. Each of the proposed LNG market hubs in Japan, China, and Singapore faces considerable regulatory and infrastructure challenges, including lack of third-party access to infrastructure and limited pipeline connectivity within and between countries. To attract multiple participants and reduce possible dominance of large, incumbent players, market liberalization will be necessary, including a regulatory environment that assures equal third-party access to natural gas infrastructure (pipelines, regasification facilities, storage, etc.) and promotes transparent LNG pricing based on demand and supply fundamentals.

As the global LNG market continues to evolve and mature, reliable pricing indexes and market hubs in Asian countries will fundamentally transform the global LNG market into a more efficient, integrated, and transparent market.